PTC Inc (PTC) 2006 Q1 法說會逐字稿

Welcome to PTC's first quarter fiscal 2006 results conference call. At this time, all participants are in a listen only mode. Later we will conduct a question-and-answer session, and instructions will follow at that time. [OPERATOR INSTRUCTIONS] As a reminder, ladies and gentlemen, the conference is being recorded.

I would now like to introduce Meredith Mendola, PTC's Vice President of Corporate Communications. Please go ahead.

Good morning, everyone, and thank you for joining us today. Participating on the call will be Dick Harrison, our President and Chief Executive Officer, and Neil Moses, our EVP and Chief Financial Officer. In addition, Jim Heppelmann, our EVP and Chief Product Officer, and Barry Cohen, Executive Vice President of Strategic Services and Partners, are here to participate in the Q&A.

Before we get started I would like to remind everyone that during the course of the conference call, we will make projections and other forward-looking statements regarding future financial performance, business trends, and other future events. We caution you that such statements are only predictions, and that actual results might differ materially from the results projected in these statements. We refer you to the information detailed in the Company's 2005 Annual Report and Form 10-K, and in the Company's other reports filed with the SEC from time to time.

A replay will be available until 5 p.m. Eastern Monday January 30 at 203-369-3233. Additionally, this conference call is being webcast and a replay will be available through our website at PTC.com until Monday January 30 at 5 p.m. Also on our investor website is a PDF document with financial and operating metrics that we will discuss on this call.

As always, after our prepared remarks we will hold a Q&A session, in order to keep this moving, please limit yourself to one question and one follow-up. If you have an additional question, you will need to get back into the queue. We have a lot to talk about. Over to you, Dick.

Okay, thank you, Meredith. Good morning, and thank you for joining us today. We do have a lot of news to discuss, so I'll get right to it. The first quarter was a great start to 2006.

We grew 14% year-over-year with a 25% increase in license revenue, excluding foreign currency impact our year-over-year growth was 17%. Our results were particularly strong in North America, which was up 30% from last year. Around the world our Windchill revenue accelerated, and we delivered our highest Windchill revenue quarter ever, and our channel revenue grew 18% year-over-year, as small and medium businesses adopt Pro/ENGINEER for entry-level 3-D design.

Finally, Customers are very enthusiastic about our acquisition of Arbortext, as we begin the cross-selling efforts into our customers base in the first quarter. It is clear that the long term strategy we have been executing for the past several years is working. The improvements we have made to our product lineup, our product development system, have resulted in a better solution for our customers. It is the industry's only, only single architecture solution, that is broad in capability and can be easily deployed to thousands of users globally.

The improvements we have made to our distribution model have driven revenue growth, customer satisfaction, and significant profitability improvements. We have also made a transformation in our services business. This transformation has enabled us to achieve our highest customer satisfaction levels ever. It's beginning to drive additional license revenue growth, and has also delivered significant profitability improvements.

Our financial restructuring quickly allowed us to improve profits and our cash flow. That has become inquisitive again and improve shareholders returns. We will continue to execute our strategy to help customers optimize product development business processes. We believe this is the right strategy to help us accelerate our revenue and earnings growth for years to come. Our hard work has paid off in other ways.

Today we have announced a new partnership with IBM. This alliance combines the strength of the IBM product infrastructure and sales coverage, with PTC's superior applications for design, data management, collaboration, and publishing. Effective January 1, 2006, IBM PLM solutions established a PTC practice, which will focus on selling and delivering Enterprise PLM Solutions, based on PTC products. Together PTC and IBM will target emerging markets, such as China and growth industries around the world, such as electronics and high-tech, consumer packaged goods, and life sciences.

IBM expanded its PLM solutions practice because its customers increasingly see enterprise-wide process integration as a key factor for enhancing productivity and innovation. Together PTC and IBM will deliver this value. After an extensive evaluation, IBM chose PTC as a partner, because of its ability to provide flexible, scalable enterprise data management with Windchill. Additionally, we have been a long time supporter of IBM's open infrastructure, supporting several of IBM's hardware and middleware platforms, such as pSeries servers and WebSphere. We are a business partner for IBM's Rational brand of software development tools, to help customers integrate mechanical and software design elements in their products.

We're one of IBM's first ISV partners to offer our solution as an application on demand, in both a shared and dedicated environment, and before we acquired ArborText, it had a relationship with IBM to provide end-to-end publishing and content management solutions. We're expanding this relationship today. We're currently developing this partnership in China, and in targeted accounts around the world. We look forward to reporting our successes to you in the coming quarters.

Customers successes, I also want to share with you some of our recent customer's successes. Our momentum has not only resulted in our new relationship with IBM, but it has also helped us realize major competitive wins and displacements.

To demonstrate our success, I'd like to highlight a couple of customer stories. Airbus, during the first quarter Airbus expanded it's commitment to PTC solutions. As a result, Airbus renewed CADDS 5 licenses for design activities, and purchased new licenses of Windchill PDMLink, Windchill Projectlink, and our visualization software for data management and collaboration. As you know Airbus has used Windchill for several years to manage the product development process, for programs like the A380.

With this expanded agreement, and many more users through Airbus and throughout its supply chain, will manage new program development processes with PTC solutions for many years to come. Airbus has chosen PTC as its sole strategic partner for PLM applications across the company.

Owens-Illinois, we also closed a transaction with Owens-Illinois in the first quarter. Owens-Illinois is one of the world's leading manufacturers of glass and plastic packaging products, with revenues of more than $6 billion annually. Owens-Illinois will deploy our product development system globally, to enable improved product innovation, and to shorten response times to customers. PTC earns its business by validating technical superiority over two large competitors, and we look forward to supporting this customer, as it rolls out our solutions to many facilities around the world.

Black & Decker, finally just recently in our second quarter, we closed a transaction with Black & Decker, a global manufacturer of power tools, home improvement products, and technology-based fastening systems. Black & Decker has manufacturing facilities in 11 countries around the world, and was looking for a partner to help manage the complexities of change and configuration management, with a dual CAD environment and global manufacturing operations.

Though we have had a small Pro/ENGINEER presence at Black & Decker, this customer was primarily a major account for one of our competitors. After a benchmark between Windchill and the incumbent competitive offering, Black & Decker chose Windchill PDMLink and Windchill Projectlink, to support their global product development environment. Once again the capabilities of our solutions, and our ability to deliver value quickly helped us win this important account.

These recent highlights are the direct result of the execution of our long-term strategy. While we have been begun to see benefits from this execution, we must continue our hard work. We will continue to focus on helping customers realize value through the use of our solutions. And we will continue to focus on meeting our short-term and long-term financial targets.

I like forward to reporting on the result of this work in future quarters. We'll take your questions in a few minutes, but now I'll turn the call over to Neil for the financial review.

Thanks, Dick. And good morning, everyone. As you can see from our results, we had a great first quarter across all product lines, especially in Windchill, and in our channel. I'll take a few minutes to add some color to our financial performance, and then follow-up with our guidance before we open up the call to questions. Total revenue for the first quarter was $192.5 million, representing 14% year-over-year growth. The revenue breaks down as follows.

License revenue grew 25% year-over-year to $58.5 million. This is primarily attributable to organic growth, particularly in Windchill and in the channel. Consulting and training service revenue grew 19% year-over-year to $44.5 million. This improvement came mainly from accelerated growth in Enterprise solution services, and maintenance revenue grew 6% year-over-year to $89.5 million. The maintenance business represents about 47% of our total revenue, and continues to be very predictable and very profitable.

By geography, our revenue was as follows. Our strongest growth for the first quarter again came from North America, where as Dick mentioned, our revenue was up 30% year-over-year to $76 million. Our efforts to grow the channel, and our focus on strategic customer relationships, are driving growth in North American sales. Six of our Top 10 deals were in North America this quarter. European revenue was up 11% year-over-year to $75 million, at constant currency European revenue was up 17% year-over-year, only one of our Top 10 deals was from Europe, but it was our largest transaction of the quarter.

In Asia-Pacific, revenue was down 3% year-over-year to 42 million, and flat on a constant currency basis. Pac Rim revenue grew 19% year-over-year, with strong license sales across product lines, and across direct and indirect channels. Three of our Top 10 deals were in Asia-Pacific this quarter.

However, we were disappointed with our revenue in Japan, which was down 20% year-over-year, and offset the growth in the Pac Rim. Our forecast is stronger going forward in Japan, so we remain optimistic about the longer term opportunity in this region. In our reseller channel, first quarter revenue was $39 million, which was up 18% year-over-year due to rapid channel growth in North America, Europe, and the Pac Rim. Our reseller channel represented 20% of total PTC revenue during the quarter.

Okay, moving to Desktop Solutions revenue. First quarter Desktop Solutions revenue was up 3% year-over-year to $126 million. Our Desktop Solutions license revenue grew 11% year-over-year to $36 million. Additionally we saw some nice CADDS 5 renewals this quarter, which contributed to our Desktop Solutions license revenue growth.

Desktop Solutions consulting and training service revenue was down 7% year-over-year to $17 million, due to lower training revenue in the quarter. We anticipate a quick return to growth in this segment of our business, as our bookings were very strong in the quarter. And Desktop Solutions maintenance revenue was up 2% year-over-year to $73 million. This reflects continued success in driving customer value and satisfaction.

Moving on to Enterprise Solutions revenue. First quarter Enterprise Solutions revenue grew 43% year-over-year to $66 million. Most of the growth is attributable to strong Windchill sales, particularly in both PDMLink and Pro/INTRALINK, following the Windchill 8.0 release last June, as well as the revenue contribution from ArborText. Enterprise Solutions revenue represented 34% of total revenue in the first quarter. By way of comparison, Enterprise Solutions revenue represented 27% of total revenue in our fiscal year 2004, and 30% of total revenue in our fiscal year 2005.

With organic and future inquisitive growth, we expect Enterprise Solutions revenue to approach 50% of total revenue within three years. Enterprise Solutions license revenue was $22.4 million up 55% year-over-year. We sold over 21,000 new seats of Windchill software this quarter. As Dick mentioned earlier, the expansion of our relationship with Airbus contributed to this growth and seat count.

Enterprise Solutions consulting and training services revenue grew 44% year-over-year to $27.5 million. This growth is attributable to our focus on process consulting offerings, and the growing license revenue trend in previous quarters, as well as the ArborText acquisition. And Enterprise Solutions maintenance revenue grew 28% year-over year to $16 million. The growth we're seeing in this business reflects our growing license trend, and our ability to move our customers more quickly, from the pilot environment to the production environment. Okay.

Now I'll move on to our spending. First quarter non-GAAP operating expenses were $169.4 million, in-line with our guidance, and inclusive of the cost of our recently-completed Asia-Pacific investigation. Our plan for fiscal year '06 includes making modest investments to help fuel accelerated growth. We also expect these investments to help accelerate margin growth in the second half of fiscal 2006. The first quarter expense for stock-based compensation was $9.7 million, which was in-line with our guidance.

Moving on to the balance sheet, our cash balance ended at $167 million, down from $204 million in the fourth quarter of 2005. The first quarter is typically down sequentially, due to annual compensation payments. In addition, although we continue to execute well on receivables collection, we had a slight increase in DSOs, which were 73 days this quarter, up 2 days from the year-ago period, and up 5 days from last quarter. This increase is all in current accounts receivable balances, and our goal was to keep DSO at less than 70 days for the remainder of the year.

Also reflected in our cash balance are two small acquisitions we made in the first quarter. First, we acquired CADTRAIN, a leading provider of E-learning solutions for Pro/ENGINEER. CADTRAIN is based in Irvine, California, and brought with it 9 employees. They have over 400 customers, and add to our talented staff of training professionals.

We also acquired DENC, a German-based engineering consulting company, whose expertise lies in product development process consulting, and integrating PTC solutions with ERP systems. DENC has over 320 customers, and adds 46 employees, who are key to building on the success of PTC in Europe.

And finally, deferred revenue was $196 million, down from 200 million, both last year and in the fourth quarter of 2005. During the past few years, the first quarter has been very strong for deferred revenue because the first quarter included January 1st, the date that PTC generates a significant number of annual maintenance invoices. However, our first fiscal quarter in 2006 ended on December 31, so we did not get the deferred revenue benefit of these invoices this quarter. We expect deferred revenue to increase significantly in the second quarter, as a result of annual maintenance billings.

Before I discuss our outlook for the rest of 2006, I wanted to mention that we also issued a press release this morning, about our plans to execute a reverse stock split. As you know, our Board of Directors authorized a Two-for-Five reverse split of our common stock, which was approved by PTC stockholders at the Annual Meeting of Stockholders on March 10, 2005. This reverse stock split is part of PTC's equity structure improvement program, and brings the Company's total shares outstanding in-line with software peers of similar size.

As you know, PTC has made significant corporate governance and equity structure improvements over the past few years. These improvements include, a reduction in options overhang from 32% to less than 20%, a commitment to reducing our annual equity burn rate to 2% of total shares outstanding, a shift from stock options to restricted stock and/or restricted stock units for eligible employees, and a requirement that at least 50% of executive officer equity grants and all cash bonuses are tied to performance-based metrics.

PTC's financial performance has improved dramatically in the last few years. We delivered a more than 20 percentage improvement in non-GAAP operating margins, and have just consecutive quarter of double-digit revenue growth. With this improved performance, we believe it's the right time to take this next step in our equity structure improvement program, and we appreciate your support.

The reverse stock split will be effective on February 28, 2006, when PTC's common stock will begin trading at the split-adjusted level. For a period of 20 trading days, PTC's common stock will trade on a post-split basis under the symbol PMTCD. After this 20-day trading period, PTC's common share will resume trading under the symbol PMTC.

Now I'll turn to our outlook. Despite the fact that FX is working against us so far this year, we're on track to meet our full year guidance that we gave in you November. Our business is strong. And we have confidence in our growth prospects. Our guidance for the second quarter of fiscal 2006, which ends on April 1st is as follows. Revenue of 195 million to $200 million, which represents 11 to 14% year-over-year growth.

On a GAAP basis, first quarter total cost and expenses are expected to be between 182 and $187 million, and earnings per share are expected to be between $0.03 and $0.05. We expect non-GAAP operating costs of 170 to $175 million, and we expect earnings per share on a non-GAAP basis to be between $0.07 and $0.09. These non-GAAP operating costs exclude the following estimated costs and expenses in the second quarter.

First approximately $10 million of expense related to stock-based compensation, and second, approximately $2 million of acquisition-related amortization expense. With respect to below the line items, we expect our other income to be insignificant for the second quarter, and also for the full year fiscal 2006. We anticipate taxes to be approximately $24 million for the year, with about $10 million in the first half, and about $14 million in the second half. And we anticipate our weighted average shares outstanding for the second quarter and full year, to be 285 million and 290 million respectively.

On a post-split basis these numbers would be 114 and 116 million shares respectively. Because of the reverse stock split, we wanted to give you a split adjusted view of our EPS targets, and therefore our earnings per share outlook is adjusted as follows. Second quarter 2006 GAAP earnings per share of $0.06 to $0.14. Second quarter 2006 non-GAAP earnings per share of $0.16 to $0.24. Full year fiscal 2006 GAAP earnings per share of $0.44 to $0.51, and finally full year fiscal 2006 non-GAAP earnings per share of $0.86 to $0.94.

Additionally from a balance sheet perspective as I pointed out earlier, our cash balance was seasonally down from last quarter, however for the full year, we expect cash flow to approximate operating income less any cash acquisition costs we may incur.

In summary, we are pleased with our progress to date, and we expect to continue strong growth and increased profitability in 2006. Thanks for your time today. We look forward to your questions.

And at this point, I'll turn the call back over to Meredith.

Thanks, Neil. Thanks, Dick. I think we're ready to open the call-up for question and answer. One question, one follow-up.

Thank you. [OPERATOR INSTRUCTIONS] Yun Kim of AG Edwards, you may ask your question.

Thank you. And congratulations on the strong license sales performance in the quarter.

Thank you.

There was a big drop-off in consulting and training business for the CAD, I'm sorry, the Desktop side of the business, which I assume that to the services margin to come in somewhat weak here. You mentioned, Neil, that training was weak, but it sounds like consulting could have also been weak there as well. Could you just give us a little more color on what happened there, and what do you expect that business to do in the coming quarters with the release of Wildfire 3?

This is Barry, on the consulting revenue, we expect the consulting revenue to bounce back going forward. And some of the downturn on that consulting revenue is related to the shortfall in Japan, which we expect to pickup in Q2 and Q3, so we see that as a slight anomaly related to the Japanese revenue in Q1.

We're not worried about it. We had a very, very strong bookings quarter, one of the strongest ones we've had in the consulting and training business. So, you know, I think it's a short-term blip.

So if that business does come back, then we should see fairly significant operating margin improvement sequentially in the March quarter, right, like around 300 basis points?

Are you talking about overall operating margin improvement, or services margin improvement?

Services leading to operating margin improvement.

Certainly that business bouncing back will help improve margins, but, you know, if you want to talk about operating margins for a second, you know, I'd say there were two things, operating margins were about 12% this quarter. The two things that impacted our operating margins were #1, the cost of our Asia-Pacific investigation, which we're not disclosing separately, but certainly had an impact, and secondly, as we talked about, somewhat disappointing revenue performance in Japan.

Okay, great, thank you.

Yes.

Richard Davis from Needham & Company. You may ask your question.

Thanks very much. When you guys talk about kind of a unified, you know, architecture and things like that, have you done any surveys or studies, that kind of show the reduced total cost of ownership, if I am a user of your product? And I guess what I am thinking back to, is in the late 80s and early '90s when you guys kind of ran the table against CV and other guys, where you could walk in and go, Look, we'll sell you our software at a price that you're paying now for an inferior product, and you just kind of ran over those guys. And so, you know, but you sold it at a price, and got equal or better functionality. I'm trying to kind of get a sense as to what the opportunity is there savings-wise if I'm a customer?

Richard, this is Jim. I don't think I can give you a nice mathematical model that can quantify it, for example. But I can say, even if we look at our own experience, the rapidity from which customers move from purchase to pilot to production, and the degree of satisfaction increase we've had in our own customers, and the ability to upgrade quickly after a release, these things are tied to, reducing the amount of customization, reducing the amount of system integration required to knit together many different pieces.

So qualitatively the world is swimming with evidence that suggest a better integrated system, has a much better total cost of ownership, unfortunately I don't have a good quantitative model. Maybe it's a good homework assignment for me.

Get some of your staff to work on that. [laughter] But the second thing would be with regard to IBM and China and things like that, I would assume it's going to take some training on your part, to help these guys know exactly what to sell, and things like that. What are your thoughts, in terms of numbers of people you run through, or how does that process work, or how should we think about how that kind of scales out?

Richard, we started the training program actually particularly in China for PTC and IBM. You know sort of together in a combined training program, you know, product training for the IBM PLM team. We did that back in December, and we had a pretty comprehensive one-week training program, and followed it up with an account strategy and planning session as well, where we detailed the largest accounts, and so forth, that we're going to go after, and target revenue opportunities, and corporate business, a whole account planning session, so we've done that for some of the other targeted accounts in Europe and the U.S., and we have also completed the training, we did it in January.

So we're off and running and we've got both IBM and PTC have revenue targets associated for the year. You know the IBM ones I'm sure, will include drag through for their products, which is very important for them, in terms of hardware, and middleware and software, and consulting and so forth, but that's all in place.

Got it. Okay, thanks very much.

Next question.

Gene Munster of Piper Jaffray, you may ask your question.

Good afternoon, or good morning. Can you talk a little bit about the Windchill seats, they were substantially better in terms of the net adds. How is the pricing environment on that front?

Well, Windchill seats were up significantly. We also had a very significant transaction with Airbus involving Windchill seats. So I would say that what you're looking at from a you know, we don't publish ASPs any more, but from an ASP perspective, those seats because of the significant number of them sold, were probably discounted a little bit more heavily than a smaller transaction that we would do, so from an ASP perspective, ASPs are down modestly this quarter, I would not say significantly, but in return our seat count growth is very significant, as is our Windchill revenue growth.

As a base, in terms of new seats from Windchill going forward, we should probably use somewhere between 14,000 and 21,000 for new seat adds, I would suspect. 21 is a little bit of a jump up, because of Airbus.

We would love to see that next quarter, but probably won't.

One follow-up here in terms of the IBM relationship, any meaningful revenue from that?

Well, basically we're you know we're keeping the guidance where it is, and we've reiterated that. I think what we need as little bit of time to build some work in process, to train our salespeople, and to train their salespeople on these account plans. It's going to take time to do that, and I think we have some, you know, it's a deep process in terms of this training.

So I think I'd say right now we've got some modest expectations, but let us report to you on the progress each quarter, and again it just started three weeks ago. Having said that, I think there's a lot of demand in the marketplace out there today, and a lot of opportunity, you know, IBM has an important relationship with Dassault, which I think they are going to maintain, and it's very, very important to them, and we're respectful of that, and there's a whole bunch of other opportunities out there, that we can work on together. So give us a chance to sort of ramp it up.

What's different I think that what IBM has done in the past is this is a partnership and practice inside the PLM business, the same business that works with Dassault, so in the past they've announced agreements with other third parties, they were more in the consulting practice, so this is specifically inside the same group that works with Dassault, and it's carved out as a separate practice, but let us give you a report in April and then in July, in terms of what kind of progress we make.

Thank you.

Thanks.

Woojin Ho from Merrill Lynch, you may ask your question.

Woojin Ho for Jay Vleeschhouwer. Back on the IBM relationship, can you discuss the terms on the scope of the agreement with IBM? Revenue share.

What do you mean by the terms of the scope?

In terms of the revenue share and the number of bodies that will be working on the sales and marketing front, as well as on the technical front?

No, at this time, no, we're not going to disclose that.

Now, Dassault had a similar strategic alliance with IBM several years ago, which as you know, has been restructured. In that agreement there were certain levels of resource commitments from IBM, which were never fully delivered. What is your degree of confidence, that your agreement as it exists today, the commitments from IBM will be delivered to you?

So, you know, here's where we are. We have, you know, a nice, broad and far-reaching agreement with IBM, and we've already gone out and trained a whole bunch of these resources. As I described the training, the first phase of the training on a worldwide basis is complete, so we know who the resources are, we're completely, you know, confident that they're interested in this, in really broadening this relationship.

This is strategic to IBM, the whole plm practice it has been for years and practice with Dassault is a very important one to them, and a very good practice, and will continue to be. But I think they think there's a lot of upside, in terms of reaching the Chinese market in a better way and some other account opportunities that Dassault hasn't been present in, and they want to do it in an I think more formal approach, which will also result in the drag of the other products and services I described.

Right and Dick to be clear, you're not assuming any IBM contribution in the '07 guidance, full year guidance, is that correct?

In the '06 guidance. '06 guidance. Not at this time.

Our sales cycle for our transactions is 6 to 9 months, we just announced this deal, so I think it would be a little bit premature to do that.

All right, thank you.

Next question.

Tim Fox with Deutsche Bank, you may ask your question.

Hi, thank you. Good morning. Neil, just a question around costs and headcount. Your head count is up about 780 year-over-year, and you mentioned you'll be making continuing modest investments throughout the year, and I think you may have said that towards the end of the year, some of these investments may actually help accelerate operating margins. Could you explain that a little bit more clearly?

Yes, couple things, Tim. First of all, we don't manage the business via head count. We manage the business via dollars. One of the reasons we do that, as you're probably aware, is the fact that we have a significant amount of offshore resources, much more significant than we had over a few years ago. Over 600 people in India, for example, doing R&D work for Jim.

So looking at the business from a pure headcount perspective is really not appropriate. I mean, we look at cost per head, and we look at dollars, in terms of managing our business. But yes, we are making some modest investments earlier on in the year. A lot of those investments are around, continuing to drive the growth of our channel.

For smaller customers where we've had a lot of success, particularly so far with Pro/ENGINEER, and we're starting to have success there with Windchill, both in direct channel sales and through our hosted relationship with IBM, it's a more profitable business model for PTC. So as we invest in channel resources and channel marketing, and as we grow our channel, particularly in the Asia-Pacific region, which we spend a lot of time on North America, we spend spent a lot of time on Europe, we have spent less time so far on Asia-Pacific.

That's a real opportunity to grow our share of the market in the low-end segment, and further improve our distribution model, which has been a huge contributor to the overall improvement in PTC's operating margins. Over that 20 point improvement in operating margins we have seen over the past three years, about 12 points out of that 20 point improvement, have come from distribution infrastructure changes, primarily related to the channel.

And you're still targeting 20% in fiscal '08?

What we're targeting is $200 million in operating margin in fiscal year 2008, and I think we previously said on another call, Tim, that we initially said $1 billion in revenue and 20% operating margins. I think I don't remember exactly when but might have been on the most recent call, we also said we might grow a little bit faster than we had anticipated, but it might be a little bit more of a challenge to hit 20% than what we anticipated, but our target of $200 million in operating margin remained unchanged.

Got it. That's fair. And the one follow-up was again on the IBM relationship. You've mentioned a couple times that obviously that there's still a Dassault relationship there, and you've been very clear in stating that there's some strategic customers in specific markets that you're going to go to. Are there specific markets that you're excluded from going into, with IBM at this point?

I don't think there's any strategic markets that we're excluded from, although I think that both PTC and IBM will, you know, not go after let's say the Dassault-installed base, so I think IBM as I said, they have a very important practice there with Dassault, they want to respect that practice. I actually think in a little bit, we'll continue to be competitors in the Dassault-installed base. So you take an account like Airbus, there's a major commitment there. Dassault announced that they were the PLM provider for Airbus three or four year ago, which they have a tendency to do in advance of any real success, that business is all of ours, and really in that situation we didn't work with IBM there.

So the Dassault-installed base in particular, will remain with them and with IBM, and we'll go after what really is 70% of the rest of the world on a combined basis. I think in that Tim, in that situation, Unigraphics becomes a pretty good target account for PTC and IBM to go after on a combined basis, and we have certainly targeted a bunch of their accounts.

Very good, thank you.

Thanks.

A. Sasa Zorovic from Oppenheimer, you may ask your question.

Thank you. Could you please elaborate a little bit, why Japan was down as much in the quarter?

Yes. It's Neil. You know the answer to that question is first of all, we had kind of poor execution in the quarter. I would say that, by and large, what happened in Japan was not related to the investigation that we did, because the investigation was primarily in the Pac Rim, and fortunately we were able to compensate with stronger performance in the other geographies, and as I said, our forecast for Japan heading into Q2, is actually pretty strong, so we're not worried about it.

Is there anything that you can tell in us particular? Is it particular yields or customers. 20%, that's a significant drop.

We missed out on a couple of large deals that we thought we were going to land in Q1, but aside from that, it was just a disappointing quarter.

Should we then anticipate this is going to be happening in Q2, or just not at all?

Neil just said, Q2 is going to bounce back, the forecast is very strong for Q2.

If we were to go down 20% in Q1, then we should go up sequentially from the base level for that miss that you won in Japan, should we put that on top of what should have been a base for Japan in Q2, is what I'm asking?

Sasa, I think our performance in Japan in Q2 is going to be strong. I'm not going to give you further information beyond that with which to forecast it, okay?

Thank you.

Philip Alling of Bear, Stearns, you may ask your question.

Thanks very much. I wanted to get a bit more color on the performance you had in the channel sales this quarter, up certainly from last quarter, so if you can give color there it would be helpful. And also if you can give some details, as far as the PRO/E Wildfire seats, what percentage of those were the lower priced ones, as opposed to your higher priced offerings? That would be helpful. Thanks.

The first question was about channel growth? Our channel grew about 18%, as I said before, strong performance across-the-board with the exception of Japan. Japan did not have a particularly good channel quarter. The Pac Rim was up quite significantly, and that's excited to us because we've made some changes recently in the Pac Rim to drive the growth of our channel business, and we're making some similar changes in Japan as well. The story in the North American channel is continued strong growth. The growth in the European channel business has been strong as well, although not quite as strong as North America, and we're excited to see the Pac Rim bounce back as well.

That was a second part that I missed.

What percentage of the seats that you sold PRO/E Wildfire seats, were the lower priced offering compared to the higher priced offering?

For Pro/ENGINEER , we have been really over the course of the last year and a half or so, operating with about 80% of the seats that we sell, the entry level package at a $5000 seat price, and 20% as the [Flex 3 seat]. Keep in mind that a lot of our customers will buy for the first time, a seat of a $5000 package, and then they'll upgrade over time to the Flex 3 seat, so this is a metric for new seats only. When people do upgrades that's not reflected in those numbers, so it's really important for us to capture those customers right from the start with that entry-level package.

Is the expectation on new seat sales that 80/20 split would sort of be sustainable for this year?

It's been very consistent over the course of the last year and a half, so there's no reason to think that that won't continue.

One follow-up question. With respect to the revenue categorization changes that you made some last quarter, with respect to Pro/INTRALINK, is the impact on the enterprise solutions revenue in the quarter what you would have expected?

Meaning that it was split in the year-ago period, and then it was all in the enterprise this year?

The answer's yes.

That's correct you said before it was a 50/50 split, and now 100% is now in Enterprise Solutions. I was wondering if the impact that have categorization change, was what you would have expected in the current quarter?

The bigger picture impact is it accelerates PDMLink sales, and you saw some of that by removing an obstacle from the whole selling process, as we have discussed previously.

Okay, thanks, much.

Thank you.

Robert Maina from Cramer Rosenthal.

No one seems to have asked any questions about Arbortext, and I know that was a focus, rather than a focus for you guys.

I said I think we just didn't get there yet.

I'm sorry. If you can go through, and help us understand what contribution that made, and how that's going now that it's been a quarter or two in the numbers?

With we are pleased as Arbortext is going, we do not separate out nor report separately the revenue from Arbortext. What we have done is, we have taken Arbortext products and we've categorized them, and put about 75% of their revenue into our Enterprise Solutions bucket. And about 25% of their revenue into our Desktop Solutions bucket, and so when we report those numbers, we're reporting Arbortext's revenue within those two segments.

Rob, just to add to that a little bit in terms of what we're out there doing and again, it just happened in really August 1, it was late July, but the integration I think between the Arbortext solutions and Windchill, is an important step, and that's scheduled for April.

So we're out there right now. We've integrated the different functions into the PTC functions, the sales force is out building some nice work in process. Customers are really interested.

I know from myself making a lot of customer calls, that it's an important problem for customers, and an important opportunity. So we're building work in process, but we need to really generate that integration, so that we can really show a customer a live demonstration of their parts, that would be created in Pro/ENGINEER, or some other CAD product, vaulted in Windchill, and then published in the Arbortext system, and then the power of making a change and having the updates occur in minutes or hours, instead of weeks or months, complete with the translated version.

Today we're talking about that. But it's hard to show it, because the integration isn't complete, so I think you're going to see more upside in the back half of the year, as we roll out that integrated product.

Do you think the Arbortext transaction helped influence any of these large deals you have won here in the last few weeks or months?

We spoke about Black & Decker. When we were in the Black & Decker deal, we absolutely spoke about Arbortext, and gave them a demonstration, and they were really excited about the opportunity to create all of their user service documents, associatively inside Windchill and so forth. I think we were going to win that deal anyway, but it became a little bit of icing on the cake, and just sort of further, you know, enhanced the situation.

Airbus is an Arbortext user and has been, but they sort of have it in a manual disassociated kind of way. It was off in a different department, and Windchill was not the common repository for it, so in the context of Airbus description, we gave them a really nice description about how they would be able to take all that product information that's vaulted into Windchill today, and extends it for now for all their user documentation. So I think it has been an influence in some of these deals, but it hasn't really been captured yet, in terms of the revenue upside.

Thanks a lot.

Thanks.

Thanks. Next question please.

[John McCrowell of Sim Data]. You may ask your question.

Good morning. On the IBM announcement, could you speak a little bit more to exclusivity, or the lack of exclusivity in that agreement please?

There's no exclusivity in the agreement, you know, either way.

Short and sweet, thank you,.

Next question.

Gary McDaniel for Standard & Poors Equity, you may ask your question. Gary McDaniel, your line is open. Please check your mute button.

Might have dropped off his cell phone.

I have no other questions at this time.

Okay, thank you for the time this morning. And again, we feel like it was a really, you know, for us a pretty eventful quarter. It's the first quarter and as I reflect personally back on it, the revenue in the first quarter, here was just about equal to the fourth quarter, which for us always a good start to, you know, what really is a promising year.

We're really excited about the IBM relationship. We targeted IBM as a partner, and had discussions with them for off and on, you know, we wanted to have the discussions, and they didn't. I think they started a couple years ago.

This could be impactful toward the back half of the year, and it really could be meaningful for us in China, and these other large account opportunities, so we'll look forward to a strong Q2, and talk to you then in the spring. Thank you.

Thank you. That concludes today's conference. Thank you for your participation.